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2022 outlook: Renewable energies are facing obstacles

The pandemic has acted as a driver of renewable energies but it has also sent shock waves throughout the industry – the shock of energy prices, inflation and more. In addition, if the market starts to see a fast upturn in interest rates, listed companies may be affected. With this in mind, many are turning to integrated utilities and IPPs, whose greatest value lies in installed assets and will likely benefit from higher electricity prices.

In 2020, the pandemic caused the biggest decline in worldwide energy consumption since the Second World War – a 4.5% decline. However, generation of electricity via renewable energies (ex hydro) registered a record high of ~3,150 TWh, accounting for 12% of generated electricity worldwide, with some 255 GW of wind and PV power installed. We are currently witnessing the greatest change to take place in the energy model in recent centuries, as the industry seeks to substitute hydrocarbons, which account for 80% of primary energy sources worldwide. The goal of “Net Zero by 2050” calls for hefty investment in renewable energies in order to reduce worldwide gas demand by 55% to 1,750bcm per year and to reduce oil demand by 75% to 24mnbl per day. Alongside this, the world will have to triple renewable power up to 2030 (10,300GW) and increase it ninefold up to 2050 (26,600GW) in order for generated electricity to be 90% renewable vs. 30% at this time. To reach these goals, current PV and wind capacities will have to be multiplied by 20 and 11, respectively. These figures are so large that, even if they are ultimately scaled back, there will still be room for significant potential growth.

The pandemic has acted as a driver of renewable energies, resulting in an increase in the number of plans supporting these technologies.  Yet it has also sent shock waves throughout the industry, resulting in several issues on which these companies will no doubt be focussed in 2022:i) The shock of energy prices, ii) growing debate regarding climate change and iii) bottlenecks in renewable energies.

  • Price shock: Renewable-energy prices will probably register delayed growth but passing on higher prices immediately seems unlikely via PPAs (long term Power Purchase Agreements). Utilities will probably have to sacrifice profitability or postpone projects. In any event, the market is likely to be paying more attention to the performance of PPA prices than to the spot market, which stands to affect a small proportion of energy sales. If geopolitical factors remain unresolved, there is arisk of a prolonged energy crisis and it seems clear that gas prices will continue to be the main cause of the high volatility of electricity prices. Investment in renewable-energy companies is a play based on the price of electricity and, therefore, on the price of gas, but it seems unlikely that the companies’ share prices will be affected by what appear to be temporary circumstances (although they may remain in place longer than expected).
  • Debate on climate change heating up. No one said it was going to be easy. As we have stated, the energy transition underway will involve numerous changes. The energy and climate policies of nearly all governments pursue three objectives: i) abundant, available energy, ii) clean energy and iii) reasonable and affordable costs. Finding a way to balance the three objectives is no simple matter, and the recent surge in prices may compromise the growth of renewable energies. With debt levels at all-time highs in many countries, assuming an additional cost with no immediately appreciable effect seems questionable. The gas crisis has triggered concerns regarding the backup and speed of installation of renewable-energy technologies. Nonetheless, it appears that electrification through such technologies remains intact. Programmes in the EU (Fit for 55), USA (Build Back Better) and other countries call for funding or institutional financing of electrification projects, and there is growing interest in energy storage (hydrogen, batteries).
  • Bottlenecks may continue complicating matters. Sharp reductions in the cost of wind and PV technologies over the last decade have allowed significant progress to be made in the decarbonisation of the electric-utilities sector. However, the current scenario is highly complex insofar as commodities, manufacturers of solar panels and turbines, logistics, etc.We expect that inflation of costs in renewable-energy technologies will probably remain unchecked, project Capex is likely to grow and we will probably see delays (some have already been announced) and even cancellations that would hamper forecast growth. Some players will likely use M&A to offset slowed organic growth. Entering into PPAs at higher prices will probably have more to do with the performance of investment costs than with spot prices.

Two additional issues will likely persist and continue to affect the industry just as they have in the past: i) the performance of interest rates and ii) regulatory risk.

  • Rising interest rates and growing regulatory risk. Despite the inflationary pressure, sharp upturns in rates are unlikely, and if so, companies will remain protected by fixed-rate financing arrangements. Delays in projects will probably hit Independent Power Producers (IPPs) harder, resulting in reduced generation of cash, which will probably be remedied via greater reliance on external sources of financing.
  • Governments will likely attempt to limit price increases, with the easiest solution being a cap on profits of inframarginal technologies (nuclear and hydro). Steps may be taken toward an overhaul of the marginalist system. Those who have invested in utilities are not going to pay any more than an additional premium for short-term factors (high prices for part of production) when they see that the electric-generation remuneration model seems to be unviable and change appears on the horizon.

In view of the aforementioned circumstances, the context will be tough for renewable-energy companies and utilities. However, some integrated utilities and IPPs with a relevant size, whose greatest value lies in installed assets, will likely benefit to some degree from higher electricity prices. If the market starts to see a fast upturn in interest rates, listed companies may be affected and good entry points may open up for investing in these companies.

Author

Alvaro Navarro

Senior Equity Analyst

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